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16 Dec 2006

The Securities and Exchange Commission has voted to propose several new rules to provide additional protection to investors in hedge funds and other pooled investment vehicles.

The proposing release, which has not yet been published on the SEC's website, will need to explain why there is more risk associated with hedge funds than, for example, raising money to start a coffee kiosk or a pet rock distribution organization. Investors and hedge fund managers may decide that the explanation is insufficient and decide to challenge the SEC's authority to make this distinction.

In an email to the company's clients, HedgeCo lawyer Jay Gould describes one of the proposals being discussed as the reinstatement of the Anti Fraud Provision under the Investment Advisers Act of 1940. This proposal would make it a fraudulent, deceptive, or manipulative act, for an investment adviser to a pooled investment vehicle to make false or misleading statements or to otherwise defraud investors or prospective investors in that pool.

The other one being the application to hedge funds of the Amendment to Private Offering rules under the Securities Act of 1933. This proposal would define a new category of accredited investor that would apply to offers and sales of securities issued by hedge funds and other private investment pools. The proposed definition would include any person who meets either the net worth test or income test, or owns at least $2.5 million in investments.

The increased investor standard will only apply to hedge funds and not to private companies that rely on other exemptions of the federal securities laws. Comments are due 60 days after publication in the Federal Register.

Germany's Deputy Finance Minister Thomas Mirow held a briefing with reporters on Germany's upcoming presidency of the Group of Eight in 2007, the G8 are the top 8 major industrialized countries, and Mirow plans to examine next year whether hedge funds pose systemic risks.

Mirow said hedge funds were "insufficiently transparent" and the industry had already seen one big hedge fund fail although with few market repercussions. He said industrial nations would try and coordinate efforts to reduce risks posed from hedge funds by promoting more transparency but not necessarily through regulations.

He said, "All over the world, people who are in charge of the stability of the international financial system are dealing with the problem,....There is a sufficient amount of experts saying we should have a closer look at it so to prevent a possible crisis," he added.

"What we would like to know is are there systemic risks, yes or no, and if so, what could we do to deal with it in a reasonable manner," he said.

Mirow's comment came as the U.S. Securities and Exchange Commission prepared to vote on a proposal on Wednesday to raise the limit investors can invest in hedge funds to $2.5 million from $1 million set in 1982.

The SEC's proposed rule, if adopted, would shut the door on a lot of the just-barely wealthy who have been piling into hedge funds lately, although one market analyst said it would likely not affect larger funds with big clients.

U.S. Treasury Secretary Henry Paulson has also weighed in on the issue on December 8 and said it was important to make sure hedge fund liquidity and borrowing were closely monitored, but said they were making a helpful contribution to financial markets.

Controversial "Mack the Knife" CEO, John Mack was recently cleared by the SEC after investigations into accusations of hedge fund insider trading. Now he has received a record bonus of $40 million as chief executive officer of Morgan Stanley.

Mack, son of Lebanese immigrants, was given $36.2 million in stock, and about $4 million in options to buy Morgan Stanley shares, the company said in a filing with the U.S. Securities and Exchange Commission. The firm also granted more than $57 million in bonuses for seven other top executives.

The bonus is 44% more than Morgan Stanley gave him last year, the previous record was the $38.3 million bonus Henry Paulson received in 2005 as CEO of Goldman Sachs Group Inc. Shares of Morgan Stanley, the second-biggest U.S. securities firm by market value, are having their best year since 2003 after Mack put the firm on course for record earnings.

Mack, who's also Morgan Stanley's chairman, received the 2006 bonus in stock and options, according to the filing. Last year, Mack declined the $28 million bonus he was offered because he had worked at Morgan Stanley for only five months. He accepted a pro-rata payout of $11.5 million in stock and also received a $337,534 salary.

Since Mack joined, Morgan Stanley has fired more than 1,000 under performing brokers, made acquisitions to bolster the firms energy, fixed-income and hedge fund businesses and created new incentives to keep top-producing employees. Morgan Stanley has surpassed analysts' profit estimates by at least 20% for the past four quarters.